A Lost Year For OPKO Health

2017 has been a tough year for OPKO Health (OPK). The stock is down more than 25% year to date, significantly underperforming the general market and its biotech peers. Looking at the chart, a bystander could have concluded that OPKO’s commercial business is imploding and that its pipeline is failing. This is certainly not the case – instead, OPKO is a victim of the expectations game. Rarely does a stock perform well when expectations are falling. And, while I believe OPKO is certainly worth much more than the current share price implies, the company has done little to make investors excited over the last 12 months:

hGH-CTP failed in the phase 3 trial in adults. This is a minor setback for the company as the adult segment accounts for approximately 20% of the total market, but investors punished the stock, and this event marked the start of a decline from which the company is yet to recover.

The diagnostics business is under pressure. More on this later.

Rayaldee is having a slow launch. I warned about the possibility of a slow launch and expected it, but am still slightly disappointed with the results in the first six months of the launch.

Partner Tesaro (NASDAQ:TSRO) received a CRL from the FDA for the IV version of its CINV drug Varubi.

And the good news over the last 12 months – CEO Frost was buying shares almost every day, and other insiders have bought occasionally, and that’s it (a vote of confidence in the company). It is hard to expect a stock to move higher when nothing positive is happening. You might wonder why I am bullish on OPKO after this kind of an introduction, but it is because I am taking a longer-term view. Investor sentiment is negative, and I am obviously not excited about the near-term prospects either, but OPKO is a company with a solid diagnostics business, it has approved drugs (Rayaldee and Tesaro’s Varubi, where it is receiving royalties on net sales) and a very broad pipeline which should produce at least a few commercial products in the next 4-5 years. I remain an OPKO bull, and while I don’t expect the stock to outperform in the near term, I do expect it to deliver strong long-term gains.

Expectations still dropping – when will we see a turnaround?

As mentioned in the introduction, OPKO’s share price is a victim of the expectations cycle. Rarely do stocks perform well when expectations are dropping, and OPKO is no different. The underperformance of the diagnostics business, the hGH-CTP phase 3 setback, Rayaldee’s slow launch and Tesaro receiving a CRL for the IV version of its CINV drug Varubi have all weighed on OPKO’s share price. But overall, these aren’t major or thesis-killing setbacks.

The company is not giving up on hGH-CTP in adults and may submit a BLA (though I remain skeptical about chances of approval), but this is a minor part of the growth hormone deficiency market. The pediatric market accounts for roughly 80% of the total market, and the phase 3 trial is ongoing with a data readout expected in 1H 2019. Unlike the adult trial, where the primary endpoint was the change of trunk fat mass from baseline at 26 weeks, the primary endpoint in the pediatric trial is annual height velocity after 12 months of treatment. hGH-CTP demonstrated strong results in the phase 2 trial which should be replicated in the phase 3 trial. hGH-CTP performed well even in the phase 3 trial in adults, but according to OPKO, the outliers in the placebo group affected the results. The pediatric phase 3 study will compare hGH-CTP to Genotropin, the same as in phase 2, and we are unlikely to have outliers in this trial like we did in the adult trial – one can lose trunk fat mass excessively due to exercise, but a child cannot achieve greater height through an effort of its own.

The growth hormone deficiency market is a $3 billion and growing global market. Compliance remains an issue, and having a drug dosed once a week instead of every day should improve compliance and accelerate the growth of this market. However, it is worth noting that OPKO is not alone in racing its solution to the market. Other competitors are looking to get their own long-acting versions to the market as well. Partner Pfizer should be of great help with the marketing efforts if/once hGH-CTP is approved. OPKO is entitled to receive royalties on net sales between high teens and mid-20s in the adult population and to an undisclosed, tiered geographical gross profit split for both hGH-CTP and Genotropin if/when approved for pediatric patients. OPKO is also entitled to receive up to $275 million in additional regulatory milestone payments. Overall, this is a potentially very lucrative product for Pfizer and OPKO.

But I digress. I was talking about expectations. Another setback was partner Tesaro receiving a CRL for the IV version of Varubi. Getting the IV version approved is very important as the CINV market is dominated by IV drugs. Tesaro is expected to take market share away from Emend, and so is Heron’s (HRTX) Cinvanti (pending FDA approval in November). The NK-1 products are underutilized, and the launches of these two drugs should help expand this market along with them eating Emend’s share of the market.

Source: Heron presentation

OPKO is entitled to receive low double-digit to low-20s royalties based on specified (but undisclosed) sales levels and up to $85 million in milestones. I expect Varubi to be approved this month and its uptake to be solid in the following years. Unlike the hGH-CTP setback in the adult population and its positive resolution being uncertain, I think there is no significant uncertainty here and that this was just a temporary setback. And, I have confidence in Tesaro’s execution capabilities as it has already captured significant market share in the oral NK-1 market, which is not very large.

Moving on to Rayaldee. As covered in previous articles, I did not expect much from Rayaldee in 2017 but am slightly disappointed with the uptake since launch. The company noted that total prescriptions grew 140% in Q2 compared to Q1, and though the growth looks impressive at first glance, it comes off a very low base in Q1 (600-650 prescriptions in Q1 and approximately 1,500 prescriptions in Q2). But the lack of meaningful growth is a consequence of a limited sales effort and modest coverage, and both should improve significantly heading into 2018.

Rayaldee began 2017 with slightly more than 40% lives covered and coverage rose to 68% at the end of June. The company expects to exit 2017 with more than 70% of lives covered. OPKO also expects to expand the sales force from 35 reps and 5 regional managers to 70 reps and 7 regional managers by October. These efforts should help accelerate growth in 2018. Partner Vifor also expects to submit an MAA in the EU in 1H 2018 and to launch Rayaldee in Europe in 2019. Unlike OPKO, Vifor has an established and strong presence in markets where it intends to market Rayaldee, and I expect Vifor to do better with Rayaldee than OPKO. Additional growth from Rayaldee could come from label expansion – OPKO expects to start a phase 2 trial for Stage 5 CKD patients with SHPT undergoing dialysis during Q4 2017.

And, finally, a word on the diagnostics business. The company is still in the midst of a revenue cycle management program, and management said it is seeing improvements in collection rates beginning in March and it also expects to see some acceleration in the second half of the year. These trends should help improve the profitability of the business in the following quarters. However, these improvements were offset by pricing headwinds in the genomics business, which drove a decrease in services revenue despite increased volumes. Management believes these price decreases have now stabilized and that revenues from services should start to reflect the expected volume increases. Based on these comments, we should start seeing a turnaround in the diagnostics business in the following quarters.

The 4Kscore was flat in Q2 compared to Q1, but up 58% in 1H 2017 compared to 1H 2016, and OPKO is looking to reinvigorate its growth with a direct-to-consumer campaign.

With these setbacks and latest developments in mind, I think there is a good chance for us to see the expectations cycle turn around in the following quarters, based on the following:

The diagnostics business should return to growth in the second half of the year.

4Kscore test growth should accelerate based on increased marketing efforts. Negative coverage determination by Palmetto last year remains an overhang, but the test is getting reimbursed in 98% of cases by Novitas, and the company is doing some clinical work to address the issues raised by Palmetto last year.

Claros 1 should be launched in 2018, helping improve the growth of this business segment.

OPKO is still not recording Rayaldee revenues. The company expects to start recording revenues by Q4 2017 or in Q1 2018. Not that there was much revenue to record until now. The increased sales force and significantly improved coverage positions Rayaldee for stronger growth in 2018.

Tesaro should have Varubi IV approved by the end of October and launch by the end of 2017. OPKO should start collecting more meaningful royalties in 2018.

OPKO will meet with the FDA to discuss the phase 3 results of hGH-CTP in adults. BLA submission could be a minor catalyst for the stock.

Rayaldee’s approval and launch in the EU by partner Vifor in 2019 is a longer-term catalyst but one that should result in regulatory milestones and royalties on net sales.

Factor VIIa-CTP phase 2a dose-escalation study is ongoing and nearing completion. We should see data from this trial in the not too distant future.

Additionally, OPKO has a broad pipeline with several phase 2 trials slated to start in the following months:

Factor VIIa-CTP phase 2a trial results (timing not specified, but possibly in the next six months).

These catalysts are at the same time the main risks in the near term – continued poor performance of the diagnostics business, 4Kscore not growing, FDA requesting a new adult trial for hGH-CTP, FDA issuing another CRL for Varubi IV and Factor VIIa-CTP reporting poor phase 2 results.

Conclusion

OPKO may not be out of the woods yet, but I think the situation should start to improve in the following quarters. The diagnostics business should turn around, and Rayaldee’s growth should accelerate as the sales force and coverage expand. OPKO also plans to start several phase 2 trials in the following months and data readouts over the next 2-3 years should help increase shareholder value along with the progress of the commercial portfolio. We also shouldn’t neglect potential MA as OPKO has been very acquisitive in the past. The company is in good financial shape with $130 million in cash and equivalents at the end of Q2 and is almost cash-flow breakeven.

Author’s note:Growth Stock Forum subscribers had an early look at an expanded version of this article on September 7, and have access to regular exclusive updates on every stock I am covering.

Disclosure:I am/we are long OPK, HRTX.

I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.

Additional disclosure: This article reflects the author’s personal opinion and should not be regarded as a buy or sell recommendation or investment advice in any way.